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The IRS’s summons on Coinbase Inc. seeking information about users of the virtual
currency exchange poses a risk for the private information of millions of taxpayers,
an attorney who moved to quash the summons told Bloomberg BNA (
In re John Does
, N.D. Cal., No. 3:16-cv-06658, motion to quash summons
12/13/16
).

The Department of Justice, on behalf of the Internal Revenue Service, asked a federal
court Nov. 17 for permission to demand that Coinbase, a bitcoin trading and storage
platform, produce records related to U.S. taxpayers without identifying specific taxpayers
in an ascertainable group. This is referred to as a “John Doe summons.” The IRS is
seeking customer data for anyone who conducted transactions in a convertible virtual
currency between Jan. 1, 2013, and Dec. 31, 2015. A federal judge granted the DOJ’s
petition Nov. 30.

Los Angeles attorney Jeffrey K. Berns, managing partner of Berns Weiss LLP, filed
a motion Dec. 13 in San Francisco to intervene and quash the summons. Berns, who said
he has been a registered Coinbase user since February 2014, said if the IRS gets access
to the information, the money and identities of Coinbase users could become vulnerable
to hackers.

The platform boasts about 5 million users,
according to its website. It is the largest virtual currency exchanger in the U.S. and the fourth-largest
globally.

“We already know the IRS has been hacked,”
Berns said, pointing to an attack on IRS servers between 2014 and mid-2015 that resulted
in the theft of 700,000 Social Security numbers and other sensitive information.

Potential for Stolen Money

In a
Nov. 30 press release, Principal Deputy Assistant Attorney General Caroline D. Ciraolo, head of the DOJ’s
Tax Division, said the exponential growth of virtual currency has raised questions
about tax compliance, and the summons sends a clear message that all taxpayers, regardless
of the currency they use, must pay their fair share of taxes.

The IRS is asking Coinbase to produce records for users who “show any U.S. address,
U.S. telephone number, U.S. e-mail domain, or U.S. bank account.” The documentation
requested includes, but isn’t limited to, the complete user profile, user security
settings, user payments methods and correspondence between Coinbase and the user or
a third party.

To transact in a virtual currency system, a user creates a “wallet.” That wallet holds
two sets of numbers, Berns said. There is a public key, “which is like an account
number,” he said, and a private key, “which is like a special access code” that allows
users to access their funds. The IRS’s summons would encompass that information, he
said. If a hacker got his hands on those keys, “that virtual currency could be stolen
and never, ever retrieved,” he told Bloomberg BNA.

Berns also said he’s concerned the IRS’s scrutiny will have a “chilling effect” on
the virtual currency industry. “People are going to get scared because there’s always
just some kind of negative connotation when the IRS is looking into an ecosystem,”
he said.

The IRS didn’t respond to requests for comment. The DOJ declined to comment.

Justification Doubts

The Nov. 17 petition pointed to three cases in which taxpayers used virtual currency
to evade taxes. Two of the taxpayers were corporate entities that bought and sold
bitcoins for personal matters and then tried to write those transactions off as business
expenses. In the third case, the taxpayer diverted his income to an offshore tax haven
and used virtual currency to repatriate his assets without government detection.

Berns said these examples don’t justify the breadth of information the IRS is requesting.
“If the IRS is truly interested in policing virtual currency tax compliance and sending
a message that it is focusing on this issue, it could easily accomplish these goals
through less onerous methods,” he said in the motion. “For example, the summons could
have contained a certain dollar threshold or volume of transactions,” he said.

“Moreover, the IRS Summons requests substantial personal and security information
that has absolutely nothing to do with tax compliance,” Berns said. “If the IRS truly
intended to compare tax returns to Coinbase’s records for tax compliance purposes,
the only information it would need are the names and social security numbers of Coinbase’s
customers, and their trading activity (i.e., Bitcoin purchases and sales).”

Berns requested a protective order if his motion to quash the summons is rejected.
Alternatively, he has requested that the court schedule an evidentiary hearing and
allow him to obtain documents and a deposition from the IRS.

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